Working hard for your money needs careful consideration over how to use your income effectively. If you allocate carefully you will ensure that you are living within your means and not above them.
Does a car salesman ever question whether the car you purchase is too costly and you should consider buying a smaller cheaper option and save more for yourself?
The same applies to the bank when applying for a mortgage. The bank works out the maximum you can afford to buy for and does not encourage you to buy smaller and save more.
Well, you should take charge of your own story and choose use your money according to your plan and not be enticed by the money lenders. After all, they make money out of lending to you and the more the merrier.
Before you spend you need to make provisions for life changing events and unforeseen expenses. This includes, life assurance, pension, medical aid, short term insurance and savings. A broad allocation should be 30% or more of your income to these provisions.
The cost of your debt which includes credit cards, home and car loans and any personal loans should not exceed 30% of your income. This ratio keeps your debt healthy and affordable allowing for sharp increases in interest rates.
The balance of 40% of your income should be used to live on during the month. You have already provided for savings and so you can spend the rest.
Following this formula will ensure that you have investments which provide towards your financial independence into the future. Your debt will be your target to payoff as soon as possible which will result in you having more to live off or more to save into the future. Hopefully you will choose the latter….
The beginning of a new year is a great time to update your personal balance sheet.
The excercise is invaluable in your personal financial planning as it creates a snapshot of your actual worth in relation to what you own and what you owe. Your so called “Net Worth”.
OWN – OWE = NET WORTH
All it takes is a sheet of paper with two columns listing the current value of all your assets on one side and your liabilities ( the outstanding loans) on the other side. Subtracting the total liabilities from your total assets leaves you with a current value of what you are actually worth. This net worth provides you with a realistic view of how well to you are doing with your financial planning. If the figure is growing year on year then you are on the way to improving your wealth. If it is not growing you are effectively getting poorer.
Bear in mind that your net worth needs to improve above the inflation rate to keep its value. So if inflation is running at 6% then your net worth should being improving above this rate year on year to keep your net worth value real.
Ways to improve your net worth are found in:
Reducing your liabilities.
Targeting your loans and getting rid of them sooner. Interest on debt is often higher than the returns found on investments. Especially, when one considers the risk needed to achieve the return.
Acquiring high growth assets.
Investments that grow consistently over time should be targeted. Especially, those which compound your growth. In other words, investments which produce returns which you reinvest, effectively buying up more. Compound interest is a magical phenomenon in the financial world and needs consistent positive returns over the longest possible time to make its magic.